Big, Bad Business Deductions

photo credit: dexknows.com

As the East Coast continues to recover from the devastating effects of Hurricane Sandy, the last thing on many small business owners’ minds is business deductions. We’ve all been reminded how swiftly unexpected events can turn our lives – and the lives of our businesses – upside down. When bad things happen, whether they’re natural disasters, bad debts, or ill-advised investments, small business owners may feel like they’re ruined.

But don’t lose hope, small business rock star! Believe it or not, Uncle Sam is there for you when things go wrong. Some of your worst nightmares actually qualify as business deductions. Hey, who ever said there’s no silver lining?

Big, Bad Debt

A customer stiffs you on a payment. A partner high-tails it outta Dodge with the cash you lent her. All of those essential oils that you banked on selling… well, didn’t. Common knowledge seems to say “that’ s the way the business cookie crumbles.” But not so fast.

If you have had an economic loss due to a bad debt, you can write it off as a business deduction. As always, there are several stipulations for business deductions of this type, so consult our handy checklist to see if you qualify:

Is this a legitimate business debt? (Something incurred in the normal course of doing business, and a transaction that would be considered pretty standard by anyone else in your industry?)

Did you make a cash loan or sell something to someone on credit?

Have you already claimed the phantom income that’s now nowhere to be seen?

Is there absolutely no chance the offending party will pay you back?

If you answered yes to several of these questions, your debt may qualify as an economic loss that you can include in your business deductions.

There are two catches to this:

1. If you or your company sell services (web design, life coaching, marketing) as opposed to goods (essential oils, greeting cards, peanut butter), you can’t deduct the amount of time you wasted working on a project that was never paid for. (Makes peanut butter start looking better and better, doesn’t it?) However, if you’re a web designer and in addition to time spent, you incurred costs like software upgrades or website fees, those costs do count as business deductions.

2. A business debt is not an investment, so make sure you’re up on the difference between the two. Whether you invest in someone else’s company, or they invest in yours, both of you are taking a risk, which is very different than paying or promising to pay for goods and services.

Casualty Losses

Victims of Sandy, perk up yours ears! Damage and costs incurred by natural disasters and other unforeseen events can count as business deductions. This is especially helpful if you don’t have insurance, or if your insurance doesn’t cover the entire cost of the damage.

A few things to keep in mind:

1. You can’t deduct more than the amount not covered by insurance. For example, you wouldn’t be able to take an insurance payout of $100,000 and write off $100,000 as a business deduction. If you had $100,000 in damages and your insurance company only shelled out $80,000, you may be able to deduct up to $20,000 in business deductions.

2. Just because you have a little “extra insurance” doesn’t mean you can be lazy. Claims like these are closely evaluated. If, for example, your business is in a major flood zone, and you neglect to get sufficient flood insurance and fail to take normal and necessary precautions against flooding, Uncle Sam is going to be hard pressed to allow any kind of deductions for your water-logged place of business.

So do what you can to prevent disaster, and if it strikes, don’t fret! As long as you’re playing by the rules, the IRS has your back.